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March 1, 2012

Nasdaq Finds Its Mojo

Guess who’s back on top? The Nasdaq Composite – that wretched group of tech stocks some investors have grown to hate.

Over the past week, the Nasdaq (ONEQ) reached 3,000 for the first time in 12 years. According to reports, ancient business jargon like “new economy,” first mover advantage, and zaibatsu are back, along with friending and tweeting (SOCL). (To give you some perspective on just how long 12 years is, if you were 9 years old, now you’re the legal drinking age of 21 and if you were an old 60, now you’re an even older 72.)

And while the Nasdaq’s upward march is impressive, the benchmark technology index is still a whopping 67% lower compared to its closing price of 5,048.62 on March 10, 2000. (I had to include some bad news in this return to glory story, to give it some balance and to throw a few cheap shots at tech, which has doled out more than its fair share of dogs.)

The Nasdaq Composite measures all domestic and international stocks listed on the Nasdaq Stock Exchange – which doesn’t necessarily make it a technology index per se. Nonetheless, with more than 53% of its exposure is to technology stocks, its fortunes are closely linked to how the sector performs.

(Side note: By comparison, the much smaller Nasdaq-100 (QQQ), which excludes financial companies, has almost 70% exposure to technology.)

Here are a few lessons we learn from the Nasdaq Composite’s slow climb back to 3,000:

Large gains from investing in stocks can take decades, but large losses can occur in a flash.

It took the Nasdaq Composite decades to reach its pinnacle point of 5,000. But after hitting that amazing level, it took the Nasdaq just nine months to be cut in half and another 24 months to fall 75% from its peak.

Big losses are almost impossible to recover from.

People that consistently lose money in the stock market often double or triple down on their losers. As a result, they end up taking greater financial risks in attempt to recoup their losses, which almost never works. A $500,000 investment that loses 50% in value needs to experience an incredible 100% gain just to get back to even.

Concentrating your wealth in one stock or one industry sector is always a gamble.

Great wealth can be obtained by concentrating investments in one fantastic performing area, but it can also massively backfire and it often does.

Be a company insider, a venture capitalist, or an investment banker – not the poor fool buying the stock at a 50% plus premium to its IPO offer price on the first day of trading.

Losing money from tech IPOs is easy.

How do you lose a boatload from technology IPOs? Be a company insider, a venture capitalist, or an investment banker – or the poor fool buying the stock at a 50% plus premium to its IPO offer price on the first day of trading.

People have short memories.

The mere mention of the countless technology failures like Flooz, Kozmo, Nortel Networks, Webvan and others that have destroyed trillions in shareholder capital serves as no warning to people who suffer from financial amnesia. If they refuse to remember, nobody can make them!

There are always exceptions.

In retrospect, even a dummy could’ve seen that Apple (AAPL), LinkedIn (LNKD) or Facebook would be huge winners. But unfortunately, we don’t live in retrospect nor can we invest in retrospect. There are always a very tiny number of winners in the stock market (SCHB), with an even tinier group of investors that are able to pre-identify those winning stocks before they become that way.

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